Role of Production Networks in Sustaining and
Rebalancing Asia’s Growth
Willem Thorbecke
Biswa Nath Bhattacharyay
CESIFO WORKING PAPER NO. 3896
CATEGORY 8: TRADE POLICY
JULY 2012
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CESifo Working Paper No. 3896
Role of Production Networks in Sustaining and
Rebalancing Asia’s Growth
Abstract
In last few decades, Asian production networks have contributed significantly toward the rapid trade
expansion and economic growth in East Asia. Developed Asia produces technology-intensive
intermediate goods and capital goods and ships them to the People Republic of China (PRC) and
ASEAN for assembly by lower-skilled workers. The finished products are then exported to the US,
Japan, Europe, and other countries. In view of ongoing global financial crisis and European debt crisis,
the ability of the rest of the world to absorb Asia’s exports has decreased. Export production in some
Asian countries has also been subsidized by artificially low prices for labor, land, and energy, and by
lax enforcement of environmental regulations. Asian economies should thus rebalance away from
relying too much on exporting subsidized goods to developed economies. On the supply side, the best
way to rebalance growth is to increase productivity in order to raise wage rates and living standards.
This can be done by leveraging production networks to graduate to higher value-added, knowledgeintensive activities. On the demand side, producers in the region should turn to Asian consumers as an
engine of growth. This can be facilitated by improving connectivity through increased investment in
connecting infrastructure such as transport and telecommunications; and by implementing a regionwide FTA. This paper addresses these issues by providing an analytic description of production
networks in Asia. It then discusses how developing Asian countries could leverage production
networks to facilitate technology transfer to domestic firms and how a regional FTA could bring Asian
producers and consumers together. Finally, it considers how infrastructure investment in large and
connecting projects could help to rebalance and sustain growth in the region through increased
connectivity and reducing trade costs.
JEL-Code: F140, L230, O530.
Keywords: East Asian production networks, ASEAN, infrastructure, connectivity, rebalancing growth,
sustainable growth.
Willem Thorbecke
Research Institute of Economy, Trade and
Industry
Tokyo / Japan
[email protected]
Biswa Nath Bhattacharyay
Office of Regional Economic Integration
Asian Development Bank
Manila / the Philippines
[email protected]
The views expressed in this paper are those of the author(s) and do not necessarily reflect the views or
policies of the Asian Development Bank or Research Institute of Economy, Trade and Industry.
Authors thank seminar participants at the ADBI Workshop on ASEAN, China, and India in New Delhi
for helpful comments. Parts of this paper are adapted from Thorbecke and Yoshitomi (2006),
Thorbecke (2010) and Thorbecke et al. (2011).
Role of Production Networks in Sustaining and Rebalancing
Asia's Growth2
Willem Thorbecke and Biswa Nath Bhattacharyay
1 Introduction
In last few decades, the international production networks and supply chain of Asia
(henceforth East Asian production network) have contributed significantly toward the
rapid trade expansion (especially intra-regional trade) and economic growth in East
Asia 3 as well as in narrowing development gap across countries. This production
network has created a global value chain in production, investment and trade in many
products such as automobiles and automotive parts, consumer electronics,
telecommunications, garments and information and communications technology.
According to Borrus et al., (2000), “a lead firm’s “cross-border production network”
(CPN) is defined to be the inter- and intra-firm relationships through which the firm
organizes the entire range of its business activities: from research and development,
product definition and design, to supply of inputs, manufacturing (or production of a
service), distribution, and support services. The CPN includes entire network of crossborder relationships between a lead firm and its own affiliates and subsidiaries, but also
its subcontractors, suppliers, service providers, or other firms participating in cooperative
relationships, such as standard setting or research and development (R&D) analysis”.
In recent years, East Asia’s exports have been produced within intricate production and
distribution relationships. Japan, Korea, Taipei,China, and multinational corporations
(MNCs) located in ASEAN produce sophisticated technology-intensive intermediate
goods and capital goods and ship them to the People Republic of China (PRC) and
ASEAN for assembly by lower-skilled workers. The finished products are then exported
to the United States (US), Japan, Europe, and other countries. The volume of exports
produced within these value-added chains has increased rapidly and this has led to
growing trade imbalances between East Asia and the rest of the world. The region’s
global current account surplus equaled US$747 billion in 2007. US$710 billion in 2008,
and US$620 billion in 2009.
There are a number of reasons why Asian economies should rebalance away from
relying too much on exports to developed economies. As net exports from Asia have
multiplied and growth abroad has stagnated, the ability of the rest of the world to absorb
Asia’s exports has decreased. In view of ongoing global financial crisis originated in US
and European debt crisis, external demand expected to remain soft. Furthermore, export
production in some countries has been subsidized by artificially low prices for labor,
2
The views expressed in this paper are those of the author(s) and do not necessarily reflect the views or
policies of the Asian Development Bank or REITI. Authors thank seminar participants at the ADBI Workshop
on ASEAN, China, and India in New Delhi, 2010 for helpful comments. Parts of this paper are adapted from
Thorbecke and Yoshitomi (2006), Thorbecke (2010) and Thorbecke et al. (2011).
3
Consists of People Republic of China Japan Mongolia, Hong Kong, China, Republic of Korea,
Taipei,China, Brunei Darussalam Malaysia Singapore, Cambodia Myanmar ,Thailand, Indonesia Philippines
Viet Nam and Lao PDR
2
land, and energy, and by the lack of rigorous enforcement of environmental regulations
(Huang 2009). This state of affairs is not in the long-term interests of the producing
countries. Finally, the trade composition in many countries is dominated by low valueadded assembled goods produced through East Asian supply chains.
Rebalancing should take place on both the supply side and the demand side. On the
supply side, the best way to rebalance growth is to increase productivity (Jitsuchon and
Sussangkarn 2009) which would raise wage rates and living standards. On the demand
side, producers in the region should look more to Asian consumers as an engine of
growth. As the Ministry of Economy, Trade and Industry (METI) (2009) reports, Asia has
930 million people who are in the middle class and above. Thus, there exists huge
potential for rising demand in Asia to offset shrinking demand in the West.
To increase productivity, firms in developing Asia should leverage production networks
to graduate to higher value-added, knowledge-intensive activities. This can be
accomplished by maintaining foreign direct investment (FDI)-friendly environments
capable of nurturing industrial agglomeration and facilitating technology transfer. One
key way to attract FDI is to lower the service link costs between geographically
separated production blocks. These could be lowered by implementing a region-wide
free trade agreement (FTA), improving intra-regional infrastructure connectivity, and
developing competitive service sectors and small- and medium-sized enterprises
(SMEs).
Many of these steps would also help Asian firms to connect with new sources of
demand. For instance, improving infrastructure in transport, and telecommunications for
increased connectivity within and between Asian economies; and implementing a regionwide FTA would give firms better access to consumers in Asia. In addition, raising
worker productivity would increase labor income, raising the long-run purchasing power
of consumers in the region. There is also the possibility of a virtuous cycle emerging.
Developing competitive SMEs and service sectors and investing in infrastructure would
attract FDI. Once countries receive a critical mass of FDI, industrial agglomeration would
start to take place. Local SMEs and service sector firms would then have more
opportunities to develop and increase their competitiveness and governments would
have more revenue to invest in infrastructure. This would in turn attract more FDI.
The next section provides an analytic description of production networks in Asia. It
focuses on East Asia (including Southeast Asian economies), since South Asia plays a
very small role in these networks. Section 3 considers how developing Asian countries
could leverage production networks to facilitate technology transfer to domestic firms.
Section 4 considers a regional FTA and the role it could play in bringing Asian producers
and consumers together. Section 5 considers how infrastructure investment could help
to rebalance growth. Section 6 provides concluding remarks.
2. An Analytical Description of Asian Production Networks
Triangular trading patterns involve Japan, South Korea, Taipei,China and Multinational
Corporations (MNCs) in ASEAN and the PRC exporting sophisticated intermediate
goods to the PRC and Association of Southeast Asian Nations (ASEAN) for processing
and export of the final products all over the world. Examining the flow of intermediate
goods can shed light on the evolution of production networks in Asia.
3
Figure 1 and Table 1 shows that Japan is the largest exporter of intermediate goods to
other East Asian countries. East Asia here includes Japan, Malaysia, the Philippines,
the PRC, Singapore, South Korea, Taipei,China, and Thailand. After Japan, the leading
exporters are Taipei,China, the PRC, and South Korea. Collectively ASEAN countries
also export large quantities of intermediate goods. This partly reflects the presence of
large multinationals in ASEAN countries.
To better understand the functioning of production networks in Asia it is helpful to look at
specific sectors. Within East Asia the largest export category is electronic parts and
components (ISIC classification number 321). Since 2000, almost 20 percent of intraEast Asian exports have been in the category electronic parts and components.
Between East Asia and the rest of the world the largest export category is computers
and office equipment (ISIC classification number 300). Since 2000, about 12 percent of
East Asia’s exports to the rest of the world have been in the category computers and
office equipment. Examining these two categories is also useful because electronic parts
and components are a key input into the production of computers and office equipment.
Figure 1. Intermediate Goods Exports from Individual East Asian
Countries to the Region as a Whole
100000
Millions of U.S. Dollars
90000
80000
Japan
70000
South Korea
60000
Singapore
Taipei,China
50000
Malaysia
40000
Philippines
30000
Thailand
20000
China, People's Rep.
10000
06
20
03
20
00
20
97
19
94
19
91
19
88
19
85
19
19
82
0
Table 1. Intermediate Goods Exports from Individual East Asian Countries
to the Region as a Whole (millions of U.S. dollars)
4
Export zone
Japan
South Korea
Singapore
Taipei,China
Malaysia
Philippines
Thailand
China, People's Rep.
1985
9468
1423.3
819.3
1959.9
629.1
293.8
251
589.3
1990
22384.6
5159.1
2048
5103.2
2027.9
417.4
873
1732.9
1995
54650.2
17491.9
8075.6
13199.8
8786.7
1426.2
3323.3
5173.1
2000
52665.2
22826.3
11800.3
19787.2
16265.6
8791.9
5648.4
9392
2005
71799.6
39125.6
21243.4
36950.3
23037.3
15877.1
9953.4
28645.2
2006
76992.2
41098.1
25530.1
49497.5
25877.8
17908.3
11943.3
37306.1
2007
84243.3
46045.8
27234.5
54868.2
27986.8
20144.1
13627
44954.2
2008
90218
46788.1
27217.5
56888.5
27518.9
17753.6
14472.2
52329.7
Source: CEPII-CHELEM Database
Figure 2 and Table 2 show that before 2005 ASEAN countries were the largest importers
of electronic parts and components from the rest of Asia. The Figure also shows that,
after 2001, electronic parts and components exports from the rest of the region to the
PRC mushroomed. 2001 was the year that the PRC joined the WTO, and evidently the
PRC’s WTO accession evidently increased the confidence of foreign firms to export
parts and components to the PRC for assembly. The value of electronic parts and
components going from East Asia into the PRC reached 87 billion dollars in 2007 and
despite the beginning of the crisis still equaled 84 billion in 2008.
Figure 2. Electronic Parts and Components Exports from East Asia
as a Whole to Individual East Asian Countries and Regions
100000
Millions of U.S. Dollars
90000
80000
70000
Japan
60000
South Korea
50000
Taipei,China
40000
China, People's Rep.
30000
ASEAN
20000
10000
19
82
19
85
19
88
19
91
19
94
19
97
20
00
20
03
20
06
0
Table 2. Electronic Parts and Components Exports from East Asian as a
Whole to Individual East Asian Countries and Regions (millions of
U.S. dollars)
5
Import zone
Japan
South Korea
Taipei,China
China, People's Rep.
ASEAN
1985
472.9
638.3
1065.9
370.9
1775.5
1990
1570.8
3104.9
2764.8
844.1
6137.9
1995
6443.7
6366.8
10476.9
2651.9
30225.3
2000
13452.8
12435.1
15989.8
12786
42497.1
2005
17248.2
18176.5
21822.5
56258.2
47558.4
2006
19964.4
19523.8
24690
73197.1
54582.9
2007
20074.5
22931.9
25864.1
86835.6
56743.8
2008
20011.5
24825.6
27770.5
83921.1
52147.4
Source: CEPII-CHELEM Database
Figure 3 and Table 3 trace the evolution of computers and office equipment produced
using the imported parts and components. Exports of final computer goods clearly
reflect the imports of electronic parts and components. ASEAN was the leading exporter
of the final assembled products before 2003. The PRC’s exports began mushrooming
after joining WTO in 2001, and reached 160 billion dollars by 2008.
Figure 3. Exports of Computers and Office Equipment from East
Asian Countries and Regions to the World
180000
Millions of U.S. Dollars
160000
140000
Japan
120000
South Korea
100000
Taipei,China
80000
China, People's Rep.
60000
ASEAN
40000
20000
19
82
19
85
19
88
19
91
19
94
19
97
20
00
20
03
20
06
0
Table 3. Exports of Computers and Office Equipment from East Asian
Countries and Regions to the World (millions of U.S. dollars)
Export zone
Japan
South Korea
Taipei,China
China, People's Rep.
ASEAN
1985
10589
581.2
2443.4
54.5
1429.7
1990
24515.6
2874.1
7294.1
402.8
9969.9
1995
36934.7
6004.9
17277.3
6141.4
40512
2000
2005
2006
2007
2008
36858.1 25612.5 25193.5 25205.7 24868.8
18917.1 17123.8 16762.1 13021.7 10228.8
29988.5 14759.3 15106.2
14631
14417
25809.6 119064.3 143213.5 148343.9 159558.3
65162.4 75320.5 81626.6 81481.9 82424.5
Source: CEPII-CHELEM Database
Figure 4 and Table 4 look at the flow of final assembled computer goods within and
outside of the region. The lion’s share of final goods flows out of the region. Even within
the region, the largest purchasers are ASEAN and the PRC. Since these are the poorest
6
parts of the region, this suggests that many of these final goods are not primarily
targeted to final consumers in Asia but are rather re-exported to consumers in the rest of
the world.
Figure 4. Exports of Computers and Office Equipment from East
Asia to East Asian Countries and Regions and to the Rest of the
World
Millions of U.S. Dollars
250000
200000
Japan
150000
China, People's Rep.
NIEs
100000
ASEAN
Rest of the World
50000
19
82
19
85
19
88
19
91
19
94
19
97
20
00
20
03
20
06
0
Table 4. Exports of Computers and Office Equipment from East Asia to
East Asian Countries and Regions and the Rest of the World
(millions of U.S. dollars)
Import zone
Japan
China, People's Rep.
NIEs
ASEAN
Rest of the World
1985
126.7
420.9
613.9
529.9
13406.5
1990
1039.8
301.6
2025.1
2924.6
38765.4
1995
2000
2005
2006
8385.4 18393.9 22089.7 21390.6
2063
6703.2 22689.5 25193.1
3921.4 14081.7 10503.3 10821.1
10637 16477.7
23075 24156.6
81863.5 121079.2 173522.8 200340.5
2007
2008
18895.3
19843
24335.4 25295.1
10809.6
10801
25274.8 24888.6
203369 210669.7
Source: CEPII-CHELEM Database
Thus, East Asian countries trade huge quantities of parts and components among
themselves. These goods flow primarily to the PRC and ASEAN, where they are
assembled and exported to the rest of the world.
3. Promoting Technology Transfer and Industrial Upgrading in Developing
Asia
One benefit of processing trade for developing Asia is that MNCs play a large role in
production and distribution processes. Furthermore, they bring expertise in finding new
sources of demand and in tailoring production to the needs of the marketplace. Even if
7
American and European demand remain low, MNCs should be able to find new markets
to exploit. Thus, processed exports should continue to play a role in developing Asia.
Processing trade also offers the potential to promote technology transfer and industrial
upgrading. This can increase the productivity of local firms. Jitsuchon and Sussangkarn
(2009) noted that the best way to rebalance growth is by increasing productivity. This
raises wage rates and labor income over time, increasing the long run purchasing power
of consumers. In addition, Jitsuchon and Sussangkarn (2009) argued that growth
rebalancing should be accompanied by national efforts to increase the domestic content
of the goods produced. Developing Asian countries would benefit if more of the valueadded in the production chain could be produced domestically.
How can developing Asian countries increase the domestic content of exports? To do this
they need to advance from simple to complex production activities—from assembling
imported parts and components to participating in the engineering and design aspects of
production. As Lim and Kimura (2009) discussed, it is crucial for local firms and
entrepreneurs to obtain technology transfers and positive spillovers from the operation of
MNCs in their countries. For this to happen, the absorptive capacity of the country must
develop:
Policymakers in [least developed countries] LDCs must be patient until
they are hosting a critical mass of FDI, rather than hastily introducing
performance requirements for technology transfers. Once the seed of
industrial agglomeration has been planted, local firms and entrepreneurs
will have ample opportunities for penetrating into production networks,
which will eventually accelerate technology transfers and spillovers (Lim
and Kimura 2009: 12).
The extensive benefits arising from FDI make it important for Asian countries to
understand how they can attract FDI flows. As stated, one important step is to lower the
service link costs between geographically separated production blocks. These costs can
be lowered along two axes; distance and controllability (Kimura and Ando 2005). Costs
along the distance axis include transport, telecommunications, and intra-firm
coordination costs, while costs along the controllability axis include the costs of imperfect
information, lack of credibility, and loss of stable contracts. To lower service link costs on
the distance axis, Asian policymakers should focus on strengthening physical
infrastructure such as i) networks of highways, ports, and airports; ii) information and
communications technology (ICT) infrastructure; and iii) container yards. To lower costs
on the controllability axis, policymakers should focus on strengthening market-supportive
institutional infrastructure such as i) legal system enforcement mechanisms, ii) access to
vendor information, iii) private contract enforcement mechanisms, iv) improved corporate
governance, and v) legal remedies against violations of intellectual property rights
agreements. The topic of strengthening regional infrastructure will be further discussed
in Section 5.
Service link costs can fall when many firms locate in one area, and the resulting
agglomeration can lead to economies of scale. Service link costs are reduced because
the large number of firms in close proximity makes it easier for firms to procure parts and
components and to handle frequent specification changes. In addition, the close
proximity of many business partners with different skills and technologies helps to
reduce the costs associated with uncontrollability.
8
For firms in developing countries to be able to reap the full benefits of these trade-FDItechnology networks, it is necessary for their economies to move up the value chain and
not to remain engaged only in labor-intensive assembling activities. Technology transfer
and upgrading is an essential element of this process. The intra-firm transfer of
managerial technology from foreign affiliates to indigenous workers can be expedited if
workers in the host country are better educated (Urata, Matsuura, and Wei 2006).
Accordingly, the development of human capital is a prerequisite for effective technology
transfer. However, it is not enough to simply provide more education. Rather the focus
should be on the sciences and engineering, disciplines that equip students with the
marketable skills that businesses need.
It is important to note that firms in developing Asia are not simply passive recipients of
technology. Rather, their technological capabilities have a strong positive effect on their
performance. Wignaraja’s (2008) analysis of the behavior of exporting firms in the PRC,
the Philippines, and Thailand revealed that the technological capabilities of firms—
covering firms’ competencies in (i) upgrading equipment, (ii) licensing technology, (iii)
certifying International Organization for Standardization quality, (iv) improving processes,
(v) adapting products, (vi) introducing new products, (vii) research and development
(R&D) activity, (viii) sub-contracting, and (ix) linking technologies—strongly affected
firms’ abilities to export. The results indicated that firms’ efforts to learn, adopt, and
employ imported technologies had positive effects on their ability to export.
R&D policy can also play an important role. Because imported technology is expensive,
selections must be made judiciously. Public research institutions can help in assessing
and indicating the best technologies to import. For their part, governments can provide
the necessary support to coordinate firms’ R&D efforts with public research institutions
and thereby promote relevant and efficient outcomes. The focus should not only be on
the types of technologies to employ, but also on identifying the most appropriate
partners. This linking up with other institutions or firms from abroad, whether done on a
formal or informal basis, is critical to enhancing productive capacities in developing Asia.
Developing Asian countries receive technology spillovers when foreign affiliates increase
local procurement in the host countries. As MNCs increase their tenure in developing
Asia, they increase their procurement from local firms. This leads to the formation of
industrial clusters, and local engineers and skilled workers begin to migrate between
firms and sectors. In doing so, they bring their accumulated human capital with them and
disperse it across the economy, promoting technological assimilation and productivity
growth. For example, Kraemer and Dedrick (2006) have documented how the lion's
share of the international production of notebook personal computers (PCs) is produced
in the Yangtze River Delta by Original Design Manufacturers from Taipei,China. These
manufacturers form part of a network that includes branded firms such as Hewlett
Packard, Apple, and Toshiba, as well as suppliers of key parts and components,
producers of basic industrial materials, and makers of operating systems and central
processing units. Local Chinese firms supply connectors, batteries, switches, and
displays and are also active in molding, casting, forging, plating, and moduleassembling. These digital and human networks allow PC producers to react efficiently in
real time to changes in consumer preferences and technology. Firms assembling the
notebook PCs have also kept inventories lean by processing 98% of orders within three
days of receipt. Productivity growth within this value chain has been phenomenal.
9
To summarize, in order to increase the tenure of foreign affiliates and reap the
associated benefits as outlined above, it is necessary to create FDI-friendly
environments characterized by the consistent and coherent enforcement of laws and
regulations at all governmental levels, as well as stable macroeconomic fundamentals.
Free trade agreements covering both trade and investment liberalization and facilitation,
as well as high quality investment treaties, assume great importance here. It is to the
topic of FTAs that the next section turns.
4. Implementing a Region-Wide FTA
A basic message of economics is that a country can reap the gains from trade by
liberalizing unilaterally. Economies in the region can thus experience efficiency gains by
reducing their MFN tariff rates, even if their trading partners do not. Partly because of the
influence of special interests, this basic message is often forgotten in trade negotiations.
Global liberalization would produce even greater gains by leading to a more efficient
allocation of resources in the international economy along the lines of comparative
advantage. FTAs between a limited number of countries, on the other hand, would be a
second best solution because it would have trade diverting effects that would offset
some of the trade creating effects. Amidst the stalled Doha Round trade talks, FTAs
offer a means to liberalize trade and sustain economic recovery in Asia. Recent trend
shows that FTA numbers have spread rapidly, particularly in East Asia. Regional FTAs
have increased from 3 to 44 between 2000 and 2010 and that there are another 85
agreements at various stages of preparation. This FTA surge is due to dissatisfaction
with the slow progress in global trade talks, the need to support sophisticated production
networks through continued trade and investment liberalization, and a defensive
response to the spread of FTAs elsewhere.
The benefits and costs of these FTAs deals are the subject of polarizing debates.
Advocates point out that agreements strengthen the policies that underpin regional trade
integration, laying the building blocks toward multilateral liberalization. Furthermore,
market integration in Asia through FTAs can help promote greater intra-regional trade
and investment, and create opportunities for greater production and spending in the
region. There are, however, losers thanks to liberalization in particular sectors. It is
therefore necessary to facilitate labor mobility and the movement of firms from losing
sectors to gaining sectors by providing retraining and upgrading for workers displaced
through trade liberalization and by reducing entry barriers to new firms and facilitating
exit through structural reform. Sector-specific protectionist policies should be abandoned
as much as possible, while competition policy should be strengthened.
FTAs between developing and developed economies affect sectors differently
depending on the level of development. Hertel (2000) examined the impacts of
liberalization of agriculture, manufacturing, and services on global trade volumes and
welfare. 4 He found that full liberalization across these sectors would increase world trade
by 20%. Three-fourths of these gains would come from liberalization in the
manufacturing sector, a little less than a fourth from liberalization in the agricultural
sector, and the remainder from the services liberalization. Welfare gains would be
largest for agricultural liberalization, followed by manufacturing liberalization and then
4
Hertel (2008) simulated the across-the-board abolition of estimated 2005 protection tariffs in agriculture;
business, finance, and construction services; extractive industries; and manufacturing. He also considered
liberalization of all sectors simultaneously. His model contained 22 sectors in 19 regions around the world.
10
services liberalization. The developing countries mainly benefit from manufacturing tariff
cuts; while the developed countries gain more from agriculture and service liberalization.
In addition, Hertel, Ivanic, and Winters (2008) simulated the impact of agricultural
liberalization and found that it will hurt poor people working in agriculture due to reduced
real after-tax factor earnings. However, the revenue replacement effects can be largely
offset by poverty-reducing impacts of lower prices of agricultural products if all
developing and developed countries reduce their agricultural tariffs together. Thus, to
enhance the benefits and the quality of agreements, it is important to reduce the scope
of these sensitive items in both types of economies and to enlarge the coverage of
countries.
Critics also worry that this wave of agreements erodes the multilateral process and
fosters an alarming “noodle bowl” of overlapping rules of origin (ROOs) requirements—
which may be costly to businesses. The noodle bowl effect refers to the possibility that
multiple trade agreements can cause the trading system to become chaotic. Baldwin and
Kawai (2008) argued that the noodle bowl can cause problems when:
Agreements are overlapping, complex, and different—with different
liberalization standards, exclusion lists, rules of origin, standards, etc.
This carries the risk of becoming unwieldy and makes doing business
cumbersome (Baldwin and Kawai 2008:1).
In the past, the lack of empirical evidence on the business impact of FTAs has made it
difficult to resolve this debate and explore policy implications. Recently, a survey on the
region’s 841 export-oriented manufacturing firms based in PRC, Japan, Singapore,
Korea, Thailand, and Philippines offers new evidence (Kawai and Wignaraja
forthcoming). The study finds that multiple ROOs impose limited burden on firms in East
Asia. The survey finds that Asian businesses—particularly the larger, more established
firms—view FTAs positively and that wider export market access and lower costs of
imported intermediate inputs exceed the costs associated with FTA use. Around 28% of
responding firms use FTA preferences and nearly double or 53% use or plan to use FTA
preferences. This suggests that FTAs are indeed bolstering trade among firms—
particularly as economic recovery takes hold—in the wake of declining trade volumes
and the nascent protectionism triggered by the global economic crisis. Nevertheless, as
more FTAs under negotiation take effect and the complexity of the Asian noodle bowl
increases, the negative business impact is likely to intensify.
To optimize the use of the region’s multitude of FTAs, firms need to plan trade
businesses more efficiently and effectively under a regime anchored by the region’s
FTAs. Meanwhile, policymakers should seek to minimize transaction and administrative
costs associated with an array of multiple, overlapping FTAs, while maximizing benefits
offered by preferential tariffs and increased market access. Kawai and Wignaraja
(forthcoming) offers several short-run remedial measures including: (i) reducing MFN
tariffs as much as political constraints will allow, which could eventually support the
conclusion of the Doha round; (ii) rationalization of ROOs (e.g., using international best
practice guidelines of simplicity and transparency) and upgrading origin administration
(e.g., electronic systems and self-certification for issuing origin certificates); (iii) making
available wider alternative options of ROOs to choose from; (iv) intensifying awareness
programs of FTAs among potential beneficiaries including availability of information on
ROOs, phase-out tariff schedules and comparison with MFN rates; (v) getting business
more involved in FTA negotiations; and (vi) improving public and private sector
11
institutional support, especially for SMEs.
To the extent that the noodle bowl is a problem, Chia (2009) noted that it can be
overcome through an FTA between many countries in the region. Kawai and Wignaraja
(2009) argued that a region-wide FTA would also spur the growth of Asian trade and
investment through: (i) a larger regional market with increased market access to goods,
services, skills, and technology; (ii) increased market size to permit specialization and
realization of economies of scale; (iii) facilitation of the FDI activities and technology
transfer of MNCs; and (iv) simplification of tariff schedules and adoption of compatible
ROOs and product and technical standards. In particular, the region-wide FTA would
make it possible to harmonize procedures for issuing certificates of origin, use of self
certification, and achieve full cumulation of ROOs. Furthermore, it would cause
transactions costs to fall if an electronic customs clearance method was employed.
The above-mentioned merits in forming a region-wide FTA as a means to consolidate
the plethora of bilateral and plurilateral agreements is increasingly recognized in East
Asia. ASEAN—as the region's oldest FTA—is emerging as an integration hub for FTAs
in East Asia and with key ASEAN+1 agreements underway, the policy discussion in East
Asia is focusing on competing region-wide FTA proposals—an East Asia Free Trade
Area (EAFTA) among ASEAN+3 countries and a Comprehensive Economic Partnership
for East Asia (CEPEA) among ASEAN+6 countries—that will guide future policy-led
integration in the region.
The simulation approach embodied in computable general equilibrium model (CGE)
models sheds light on the effects of alternative FTA policy scenarios. Such scenarios
tend to focus on the removal of price distortions against imports that arise from existing
trade barriers and other sources. The results of CGE studies provide insights into the
numerical magnitude of gains and losses from trade liberalization and the distribution
across regions, countries, and sectors. Accordingly, CGE studies can help in framing
negotiation positions with FTA partners, indicate implementation schedules for trade
liberalization and suggest the need for appropriate structural reforms to mitigate adverse
impacts.
The CGE analysis in Kawai and Wignaraja (2009) suggests that a region-wide
agreement in East Asia provides welfare gains over the present wave of bilateralism.
More specifically, (i) a region-wide FTA, whether an EAFTA or CEPEA, offers larger
gains to world income than the current wave of bilateral and plurilateral FTAs; (ii) the
CEPEA scenario, which is broader in terms of country coverage, offers larger gains to
the world as a whole in terms of income (US$260 billion, measured in constant 2001
prices) than the EAFTA scenario; and (iii) third parties outside either an EAFTA or
CEPEA (e.g., the US or the European Union) lose little from being excluded from a
region-wide agreement.
The formation of a comprehensive, World Trade Organization-consistent, region-wide
FTA in East Asia may make it easier to achieve a deep Doha trade deal as many of the
concessions on agricultural and industrial goods may already be incorporated into the
region-wide agreement. Furthermore, it offers an insurance against rising protectionist
sentiments that pose a risk to Asia's trade and economic recovery. Nonetheless, it is not
obvious how such a region-wide FTA can be created given political economy
considerations. A 2009 Joint Experts Group Study Report on an East Asia Free Trade
Agreement advocated consolidating existing FTAs in the region rather than beginning
12
negotiations again from scratch. Political rivalry over FTA leadership in East Asia may,
however, hinder any such joint venture. There are currently no bilateral or plurilateral
FTAs between the PRC, Korea, and Japan; these countries would have to negotiate
among themselves and would also have to exercise leadership to help the region
achieve a comprehensive FTA. Also, the role of the US in Asia as a security anchor for
many countries and the rising importance of European markets for many Asian
economies suggests that involving the US and Europe may also make sense.
Governments should aim for high quality agreements. This will also give some insurance
against rising protectionist sentiments that pose a risk to Asia's trade and economic
recovery. The 2009 Joint Export Group Study Report on an East Asia Free Trade
Agreement advocates an agreement between the ASEAN+3 5 countries that would
include: 6
1) a high quality agreement in the region for market access for both goods and
services;
2) a global standards investment agreement;
3) satisfactory trade and investment facilitation measures;
4) full cumulation of ROOs;
5) special attention to the needs of less developed countries; and
6) a dispute settlement mechanism.
For poorer Asian nations, a region-wide FTA would offer both possibilities and dangers.
The possibilities include greater market access and greater participation in regional
production networks. The dangers include increased competition from more efficient
firms in other countries. Providing safeguards for poorer countries and capacity building
assistance are crucial to improving supply-side competitiveness in less developed
ASEAN countries.
In the context of investments, investment treaties should ideally provide three
substantive clauses and one procedural component. 7 The three substantive clauses are
investment protection, investment facilitation, and investment liberalization and the
procedural component is dispute settlement. Investment protection provides
compensation in the case of expropriation and mandates fair and equitable treatment of
foreign investment to avoid wrongful termination of government contracts. Investment
facilitation requires transparency (i.e., that all relevant laws be publicly proclaimed).
Investment liberalization emphasizes freer market access of investment (i.e., no
restrictions on ownership). Along this line, national treatment, that is, that foreign firms
should receive the same treatment as domestic firms, should be mandated. Dispute
settlement involves state parties providing a “standing” offer to arbitrate with individuals
or states in the case of a disagreement. High quality investment agreements would
promote the flow of FDI in the region and thus contribute to technological upgrading in
developing Asia.
In the case of ASEAN, the ASEAN Economic Community Blueprint set out initiatives to
liberalize and facilitate investments in the ASEAN region. Investment cooperation in
ASEAN was implemented through the 1998 Framework Agreement on the ASEAN
Investment Area (AIA) and investment protection was implemented through the 1987
5
ASEAN countries plus the People’s Republic of China, Japan, and the Republic of Korea
An Asia-wide FTA could be formed initially by the ASEAN+3 or the ASEAN+6 countries.
7
This paragraph draws on Kotera (2006).
6
13
ASEAN Agreement for the Promotion and Protection of Investment or the ASEAN
Investment Guarantee Agreement (IGA). In February 2009, the AIA was replaced by the
ASEAN Comprehensive Investment Agreement (ACIA), which takes into account
international best practices based on four pillars—liberalization, protection, facilitation,
and promotion—and includes new provisions to enhance AIA/IGA provisions. Under the
ACIA, all industries under manufacturing, agriculture, fishery, forestry, and mining and
quarrying sectors and services incidental to these five sectors will be liberalized.
5. The Need for and Benefits of Infrastructure Investment for Increased
Connectivity
Current infrastructure in the region reflects the fact that most Asian countries have
prioritized exports to the US and Europe. To adjust to the West’s shrinking consumption
as an aftermath of ongoing global financial crisis and European debt crisis, Asia now
needs to increase intraregional infrastructure connectivity in order to promote expanded
regional economic integration, enhanced intraregional trade (through reduction of trade
cost), and sustainable and inclusive growth. Asian investment in infrastructure
connectivity could enhance competitiveness and productivity, speed up economic
recovery, and help in achieving balanced, sustainable, and inclusive growth in the
medium- to long-term. In addition, connectivity could promote environmental
sustainability through the development of cross-border green energy and transport
networks. The coordinated financing by Asian countries of regional infrastructure
networks and enhanced regional connectivity would maximize the efficient use and
application of resources and lead to a sustainable and inclusive, high-growth path in the
long run. 8 This effort would require concentrated efforts to develop both “hard” and “soft”
infrastructure: physical infrastructure such as transport, energy, and telecommunications
networks, and facilitating infrastructure such as appropriate policies, regulations,
systems and procedures, trade facilitation measures, and the institutions necessary to
make hard infrastructure work properly.
This section examines the role of national and regional (or cross-border) infrastructure
investment in (i) rebalancing Asia’s growth; (ii) acting as new engines of growth; (iii)
promoting balanced, sustainable, green, and inclusive growth; and (iv) improving
national and regional competitiveness and productivity.
5.1 Rebalancing for Sustainable Growth
Trade and FDI have been crucial ingredients in the rapid growth and economic
integration witnessed in Asia. Investments in infrastructure and logistics in the region
have reduced trade costs, increased access to markets and suppliers, and improved
international competitiveness. Asia, particularly East Asia, has fairly strong trade
integration, primarily through tariff liberalization and increased trade in parts and
components, and Asian economies have become key links in global production networks
and supply chains with many countries in the region involved in different stages of
assembly processes. As noted by Brooks and Hummels (2009), countries that are able
to involve themselves more deeply in global production networks and that invest in
trade-supporting infrastructure stand to benefit more from trade relationships and
diversification of development opportunities. However, until now, the emphasis has been
8
For a full definition of regional infrastructure, see Bhattacharyay (2008).
14
on integrating the production of intermediate goods within global production networks,
rather than facilitating the meeting of final demand from within the region. To achieve
more sustainable growth, infrastructure investment now need to focus more on the latter.
The development of economic/transport corridors, to be discussed below, is an example
of one strategy aimed toward this goal.
While Asian infrastructure has expanded relatively quickly to support the region’s rapid
trade growth and economic integration, there is still significant need for the superior
infrastructure and logistics required to facilitate successful production and trade
networks. Trade centers, such as PRC; Hong Kong, China; Malaysia; Korea; Singapore;
Taipei,China; and Thailand, have all developed logistics systems to facilitate
intraregional and international trade. However, these systems are still evolving and will
come under increasing pressure as concentrations of economic activity expand inland.
Several country-specific studies suggest that inland locations imply large logistics
burdens. For example, almost 63% of the cost of transporting goods from Chongqing in
the PRC to the West Coast of the US is incurred before the goods arrive at the PRC port
for export (Carruthers and Bajpai 2003). The deficiencies of Central Asian transport
systems—high costs coupled with low quality transport and logistics services—have
meant that close to 20% of the value of traded goods is accounted for by transport costs.
Carruthers and Bajpai’s multi-country study (2003) demonstrated that a 20% reduction in
logistics costs would increase the trade to gross domestic product (GDP) ratio by more
than 10% in the PRC, Cambodia, and the Lao People’s Democratic Republic; by more
than 15% in Mongolia; and by more than 20% in Papua New Guinea.
Regional infrastructure can bring greater physical connectivity, helping to expand
markets and accelerate growth and business through greater efficiency, agglomeration
economies, and economic/transport corridors. The development of economic corridors is
a good example of the dynamic aspect of regional infrastructure networks and
demonstrates how good transport corridors can generate and attract more business and
industries that in turn attract further infrastructure investment to support the increase in
economic activity. The development of economic corridors across borders and within
countries has been on the rise in Asia. Economic corridors require a robust transport
infrastructure network and an effective logistics system to efficiently link economic
activities within and across corridors. Effective telecommunications connectivity across
the regions and digitalization/automation of movements of goods across borders are
essential to reduce trade costs. As such, they are effective tools to accelerate regional
and sub-regional economic integration within Asia. Physical connectivity has improved
across most parts of the Asia and Pacific region through land, sea, and air-based
transportation networks, largely in order to support economic development programs at
both the national and regional levels. However, much still needs to be done and
extensive investments in infrastructure are required to address and reduce poverty
levels in the region.
5.2 Large Infrastructure Projects as New Engines of Growth
Large national and regional infrastructure projects involving many Asian economies
have great potential to act as new engines for promoting growth. Such projects
inherently include expanded employment opportunities and increased investment, not
only in the project itself, but also in secondary and supporting industries and supply
chains. Bringing forward and implementing high-priority national and regional pipeline
projects could further boost Asia’s growth and competitiveness in the global economy.
15
Asian Development Bank (ADB)/Asian Development Bank Institute (ADBI) (2009)
include a list of major regional infrastructure projects for roads, rail, and energy networks
totaling US$133 billion. Fiscal stimulus packages for large infrastructure project can
contribute to economic growth and employment generation to offset the adverse impact
of the ongoing global crisis.
Physical infrastructure and its quality can also influence location choices for efficiencyseeking or export-oriented FDI flows (Kumar and De 2008). Ang (2007), while examining
determinants of FDI inflows to Malaysia, concluded that the provision of an adequate
infrastructure base is an effective tool for stimulating FDI inflows. According to Indian
Finance Minister Palaniappa Chidambaram, a lack of adequate infrastructure has
impeded India’s economic growth by 1.5% to 2% per year (World Economic Forum
2007). Esfahani and Ramírez (2003) estimated that if Africa had East Asia’s growth
rates in telephones per capita (10% vs. 5%) and in electricity generation (6% vs. 2%), its
GDP per capita growth rate would have been at least 0.9% higher. 9 The efficiency and
productivity of infrastructure services as an input to other sectors can improve the
productivity of those sectors and enhance economic growth.
5.3 Connectivity for Environmentally Sustainable Development and Inclusive
Growth
Enhanced energy and transport connectivity could also help Asia to address problems of
environmental degradation, energy security, and input supply. Properly designed
infrastructure projects, such as greener transport systems (urban metro systems and
regional railways) and sustainable energy grids (renewable energy generative capacities
and smart, cross-border electrical grids), across the region would help to efficiently
facilitate the flow of goods and energy from areas where renewable sources are
abundant to those where more are needed. This promotes the development of green
economies, environmental sustainability, greater technological innovation and
application, and the more efficient use of scarce regional resources.
Most developing countries in the region face barriers to reaching non-income Millennium
Development Goals targets in health, agriculture, and education. These targets are
closely associated with infrastructure needs. The lack of adequate infrastructure limits
competition and this can lead to monopolistic pricing, particularly in rural areas. It can
also affect both the market participation and educational opportunities available to the
poor and can create obstacles to adequate health care, thus reinforcing the poverty
cycle. Conversely, appropriate infrastructure investment can lead to poverty reduction,
service provision, and growth, in a reinforcing cycle. It supports the process of growth on
which poverty reduction depends and helps the poor access the basic services that
improve lives and provide income opportunities. There is substantial evidence of the
positive impact of national infrastructure on poverty reduction as attested to by the fact
that quality road, transport, electricity, gas, water supply, and communications facilities
have significant positive effects on economic growth (ADB/ADBI 2009). An examination
of sub-regional transport and energy infrastructure projects in Central Asia, the Greater
Mekong Region area, and South Asia has shown that these projects have had significant
impacts on growth as well as on the welfare on poor households (ADB/ADBI 2009).
Further, regional infrastructure investment for economic corridors can accelerate
9
See Calderon and Serven (2004) and Rickards (2008) for other examples.
16
regional and sub-regional economic integration within Asia by redistributing goods and
services and more effectively reducing poverty across the region.
Achieving inclusive growth through connectivity is also a primary challenge for
landlocked, small, or less developed countries, whose rural or remote populations are
often left behind. In total, there are 12 landlocked developing countries (LLDCs) in Asia 10
and they are among the most disadvantaged countries in the region. These countries
face severe challenges to growth and development due to a wide range of factors,
including poor physical infrastructure, small domestic markets, remoteness from world
markets, and high vulnerability to external shocks. The necessity for imported goods to
transit through the territory of at least one neighboring state, and the frequent change of
transport modes, results in higher transaction costs. Inefficiencies in areas such as
customs and transport can also be a stumbling block to the integration of LLDCs into the
global economy and may impair export competitiveness and the inflow of FDI.
To respond to the transit problems in the borders that hinder LLDCs, a multidimensional
approach is needed (United Nations Conference on Trade and Development [UNCTAD]
2008), most notably to develop adequate national transport networks and efficient transit
systems, to promote regional and/or sub-regional economic integration, and to
encourage FDI in economic activities that are not distance-sensitive. By way of example,
the “Global Framework for Transit Transport Cooperation between Land-locked and
Transit Developing Countries and the Donor Community” (United Nations 1995) was
endorsed by the United Nations General Assembly with a view to enhancing transit
systems and enabling LLDCs to reduce their marginalization from world markets.
Additionally, many archipelagic Southeast Asian and Pacific countries face transport
connectivity problems linked to low volume shipping and low value-added trade. Physical
connectivity is crucial for landlocked, island, and small countries and the appropriate
regional infrastructure is required to connect isolated groups to business activity centers
and thereby contribute to the reduction of regional development gaps.
5.4 Infrastructure, Competitiveness, and Productivity
The global competitiveness of Asian economies depends on their infrastructure quality,
as shown in Table 5. Increased infrastructure investment can promote competitiveness
and productivity by reducing the trade costs associated with transport and logistics.
Additionally, infrastructure services like transport, electricity, and telecommunications are
essential inputs for any production activity. Therefore, high quality and cost-effective
infrastructure services can contribute to the improvement of productivity in any sector of
an economy. National and regional infrastructure, both physical and institutional, is
playing an evident role in facilitating the creation and expansion of economic corridors.
Enhanced transport and information technologies have allowed cities in the region to
specialize based on their comparative advantages, thereby creating a broad range of
new activities.
Table 5: Global Competitiveness and Infrastructure Quality Index
2001–2002
2008–2009
2009–2010
GCI
Infrastructure GCI
Infrastructure GCI
Infrastructure
Country
Rank Rank Score Rank Score Rank Score Rank Score Rank Score
10
Afghanistan, Bhutan, Lao People’s Democratic Republic, Nepal, Armenia, Azerbaijan, Kazakhstan,
Kyrgyz Republic, Mongolia, Tajikistan, Turkmenistan, and Uzbekistan.
17
PRC
India
Indonesia
Japan
Korea
Malaysia
Philippines
Singapore
Thailand
Viet Nam
47
36
55
15
28
37
54
10
38
62
61
66
59
15
27
20
68
2
30
71
2.90
2.60
3.00
6.00
4.80
5.40
2.40
6.80
4.60
2.20
30
50
55
9
13
21
71
5
34
70
4.70
4.33
4.33
5.38
5.28
5.04
4.09
5.53
4.60
4.10
47
72
86
11
15
23
92
4
29
93
4.22
3.38
2.95
5.80
5.63
5.25
2.86
6.39
4.67
2.86
29
49
54
8
19
24
87
3
36
75
4.74
4.30
4.26
5.37
5.00
4.87
3.90
5.55
4.56
4.03
46
76
84
13
17
26
98
4
40
94
GCI = Global Competitiveness Index, PRC = People’s Republic of China.
Note:
Total number of surveyed countries in the world: 75 (2001–2002), 134 (2008–2009) and 133 (2009–2010)
Score: 1= poorly developed and inefficient; 7= among the best in the world
GCI score of 2001–2002 was not available
Source: World Economic Forum (2001, 2009b, and 2010).
The ADB/ADBI 2009 flagship study on infrastructure and regional integration showed the
cost of the total connective infrastructure needs (including electricity, transport, and
telecommunications) of the Asia and Pacific region for the period 2010–2020 to be an
estimated US$7.6 trillion. This figure includes both replacements for aging national
infrastructure and the building of new infrastructure to support fast economic growth. In
addition, throughout the same period Asia will require a further US$380 billion for water
and sanitation projects and around US$300 billion for the more than 1000 regional pipeline
infrastructure projects needed for pan-Asian connectivity.11 On average, the total
infrastructure investment needed for Asia over 2010–2020 is around US$750 billion per
year.
Infrastructure played a key role in fiscal stimulus packages during the global financial
crisis (see Table 6) The infrastructure portions of the region’s fiscal stimulus measures
were applied to key sectors, including transportation, energy, information technology and
communications, and water, in both rural and urban projects. The PRC in particular
sought to support both rural and urban development by investing nationally in railways,
airports, electrical transmission technology, expressways, and telecommunications
technology, as well as locally in rural roads, electricity, gas, water, and irrigation projects.
Taipei,China and Korea focused their infrastructure spending on advanced technological
upgrades and systems. Taipei,China continued its work on projects that advance the
transportation network, industrial development, urban and rural development, and
environmental protection. Korea invested heavily in transportation improvements (e.g.,
port upgrades, high-speed railways, and expressways) and in green technology,
including projects for solar, wind, and hydrogen fuel cell energy, as well as carbon
capture and storage (Foreign Affairs and International Trade Canada [FAITC] 2009;
Kang 2010).
Table 6: Infrastructure Investment in the Stimulus Packages of Major Asian
Economies
Total Fiscal As % of Infrastructur
Stimulus
2008 GDP e
11
Infrastructur
e as % of
See Bhattacharyay (2009) for further details.
18
4.31
3.47
3.20
5.83
5.60
5.05
2.91
6.35
4.57
3.00
(US$ billion)
Australia
9.7
PRC
600.0
India
60.0
Indonesia
7.7
Japan
130.0
Korea
11.0
Malaysia
2.0
Singapore
14.6
Taipei,Chin
a
20.4
Thailand
46.7
Viet Nam
8.0
¹ In current prices.
1.0%
13.9%
4.9%
1.5%
2.6%
1.2%
1.0%
8.0%
Component
(US$ billion)
2.3
275.0
33.5
1.3
1.5³
7.8
0.17
3.1
Total
Stimulus
23.7%
45.8%
55.8%
16.9%
1.2%
70.9%
8.5%
21.2%
5.3%
17.9%
8.8%
16.6
30.6
4.8
81.4%
65.5%
60.0%
² Converted from New Taiwan Dollars to US$ at exchange rate for 28 January 2010 of 1TWD =
0.03117US$.
³ Amount estimated from reports in FAITC (2009) and Sugimoto (2010).
Note: Exchange rates on 28 January 2010 used when needed (http://www.oanda.com/currency/converter/).
Source: Author’s calculations from data in: Kang (2010); Sugimoto (2010); Kumar and Soumya (2010);
Patunru and Zetha (2010); Nguyen, Nguyen, and Nguyen (2010); Jitsuchon (2010); World Bank (2009b);
FAITC (2009); Alibaba.com (2008); International Federation of Consulting Engineers (2009); and ADB
(2009b).
In Southeast Asia, both Thailand and Indonesia also announced significant investments
in both rural and urban infrastructure. Indonesia planned to devote its US$1.3 billion
infrastructure component to infrastructure acceleration and development programs
across the board, by distributing funds to all of the rural and urban infrastructure-related
ministries (Patunru and Zetha 2010). Thailand planned for water resource development
and road construction in villages and rural areas, along with national improvements in
transport and logistics, energy, and telecommunications through its two stimulus
packages (Jitsuchon 2010).
More than 50% of India’s US$60 billion fiscal stimulus package was designated with an
infrastructure focus, though India is expected to use those funds primarily to support
public private partnership projects in progress and in the pipeline. The government of
India has also authorized its India Infrastructure Financing Company Limited and nonbank infrastructure finance companies to raise increased funds through bond issuances
and from multilateral and regional institutions (FAITC 2009; Kumar and Soumya 2010).
As many Asian countries have accelerated domestic infrastructure investment for
enhancing national connectivity, the coordination of this spending in the direction of
regional infrastructure development, such as airports, seaports, and roads, is essential
for realizing regional connectivity.
6. Conclusion
This paper has considered real sector issues related to economic rebalancing in Asia. It
has argued that Asian economies should move away from growth strategies driven by
excessive exports to developed economies. Rebalancing should take place on both the
demand side and on the supply side. On the demand side, producers in the region
should exploit the capacity of the 930 million middle class consumers in Asia to function
19
as an engine of growth (METI 2009). On the supply side, the best way to rebalance
growth is to increase productivity. This would increase the long-term income of Asian
consumers and, consequently, their ability to sustain production directed toward regional
markets.
To increase productivity, developing Asian countries should leverage production
networks to graduate to higher value-added, knowledge-intensive activities. This can be
accomplished by investing in human capital to provide workers with marketable skills,
implementing appropriate R&D policies to enhance the technological capabilities of
firms, and maintaining FDI-friendly environments to nurture industrial agglomeration and
facilitate technology transfer. An FDI-friendly environment would include both the
consistent and coherent enforcement of laws and regulations at all governmental levels
and the maintenance of stable macroeconomic fundamentals. In addition, a key way to
attract FDI is to lower the service link costs between geographically separated
production blocks. These could be lowered by implementing a region-wide FTA,
improving intraregional infrastructure, and developing competitive service sectors and
SMEs.
A region-wide FTA should include full cumulation of ROOs in order to overcome noodle
bowl effects. Infrastructure investment can be facilitated if governments, multilateral
development banks, and bilateral financial institutions work together. More open and
competitive service sectors would be promoted if policymakers removed distortions that
favor manufacturing over services. SMEs could be strengthened if Asian governments
were to establish high-level coordinating agencies like SPRING Singapore and develop
long-term holistic plans to nurture SMEs.
Many of these steps would also help Asian firms to connect to new sources of demand.
For instance, improving infrastructure for enhanced connectivity and implementing a
region-wide FTA would give firms better access to consumers in Asia. In addition, raising
worker productivity would increase labor income, thereby raising the long-run purchasing
power of consumers in the region. Investment in infrastructure can help Asian
economies (i) to rebalance for sustainable and inclusive growth, (ii) to improve
competitiveness and productivity. Furthermore, investment in large national and regional
infrastructure projects can act as a new engine of growth. At this juncture, East Asian
economies should provide new stimulus packages with significant investment in
transportation, energy, information technology and communications, and water.
There is also the possibility of a virtuous cycle developing. Nurturing competitive SMEs
and service sectors and investing in infrastructure would attract FDI. Once countries
receive a critical mass of FDI, industrial agglomeration could start taking place. This
would give local SMEs and service sector firms more opportunities to develop and
increase their competitiveness, while at the same time providing governments with more
revenue to invest in infrastructure. This would in turn lead to greater FDI inflows and
increased technology transfer to local firms.
This paper has considered how Asian countries can rebalance their economies by
increasing productivity on the supply side and by targeting regional consumers on the
demand side. Although these changes would be difficult initially, in the long run they
would allow workers and consumers in the region to increase their incomes and to enjoy
more of the fruits of their labor.
20
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